Investing in the stock market always carries risk, but now with a market correction likely, it can feel even riskier. There's a real chance that investors will lose some of their money in the short term, and it leaves some wondering whether they should sell or at least hold off on investing more until things are on the up and up again.
The answer isn't as straightforward as you might think. There are times it makes sense to avoid investing, but for most people, fears of a market correction shouldn't keep them away.
Image source: Getty Images.
When it makes sense to avoid the stock market
Investing in the stock market is usually a bad idea if you have more important concerns that you need to reserve your cash for. Everyone should have an emergency fund containing at least three to six months of living expenses. This can help you avoid taking on debt because of surprise bills.
It's best to keep this money out of the stock market because stocks can be volatile in the short term. If you need cash in an emergency, you have to sell right away, even if it means taking a loss. A savings account doesn't carry this risk, and it can help you earn a small amount of interest on your funds.
Those with high-interest debt should also avoid investing until they've paid this off. Some credit cards can have annual percentage rates (APRs) of 30% or more. What you're paying in fees to these companies will cost you more than you'll earn in the stock market most years, so it makes sense to pay this off as quickly as possible. Once you've done so, you can then put your extra money in the stock market every month.
The other group who may want to consider holding off on investing is those who don't have a well-diversified portfolio. Everyone ought to keep some of their money in stocks and some in bonds, but how much you should have in each depends on your age. The typical rule of thumb is to keep 110 minus your age in stocks. So if you're 40, you'd keep 70% of your money in stocks and 30% in bonds. If you have more money in stocks than you should right now based on your risk tolerance, it's a good idea to hold off on investing more.
You'll also want to spread your money around among at least 25 different stocks. These should be in a few different sectors. This kind of diversification can help reduce your risk of loss. If you have your money in 100 stocks and 10 of them plummet, that's a much smaller problem than if you'd only had your money in 20 stocks and 10 of them dropped in value.
If you don't feel like you've appropriately diversified your savings, it could make sense to sell off some of your existing stocks so you could purchase other ones to get a more diversified portfolio.
Most people should keep investing
If none of the scenarios above apply to you, you're probably better off continuing to invest as you have been. While it's likely that a market correction will happen in the near future, it's impossible to predict exactly when it will be.
Some people try to time the market by selling when they think their stocks are at a high and buying again when they think they're as low as they're going to go. But this strategy is really just gambling. Even the most seasoned investors usually can't predict precisely when a stock's share price is going to rise or fall. That's why most of them don't try to.
It's best to just stick to your regular investment strategy and accept the fact that you might lose some money in the short term. Market corrections are a natural part of investing, and they're usually short-lived. If your goal is to invest for the long term, then they're nothing to worry about.
